You may have heard that VA home loans offer some of the most competitive mortgage rates available. But have you ever wondered why?
To understand loan interest rates on VA loans, let’s first think about financial loans in general and why lenders charge interest.
How Loans Work
In order to understand how loan interest rates work, you first have to understand how a home loan itself works.
Basically, a home loan is a type of secured loan, where the home itself serves as collateral in case you default. What this means is that, if you can’t pay, the lender can sell the home to get back their money.
Because home are expensive, and most people don’t have hundreds of thousands of dollars in cash, banks or other lenders let an individual borrow the money with the agreement that the money will be paid back over a certain amount of time, with interest.
But why do they charge interest? Why can’t they just loan you the money and let you pay it back, even-steven? Keep reading to find out!
Why There Are Interest Rates
Basically, banks and other lenders charge interest just like landlords charge rent; in other words, interest is the cost of renting the lender’s money.
The lender usually adds the interest amount to the principal (which is mortgage-speak for the amount you originally borrowed). Over time, this increases the amount you’ll need to pay back.
Ok, so now you understand why there are interest rates. But why do they vary from borrower to borrower?
Basically, it’s a way for the bank to protect themselves from losing too much money. Lenders charge higher interest to borrowers who have riskier credit histories, lower income, and so on.
The rationale for this is that those “high-risk” borrowers are more likely to not pay the entire loan back, so the lender wants to make more on the loan before the borrower defaults.
Because lenders are a business, loans are written so they will get back much more than they lent. Basically, they need to make it worth their while, financially, in order to justify the risk.
Why Average Interest Rates Change Over Time
Banks and other lenders set their loan interest rates based on factors like central bank rates, inflation, and the demand for credit.
Here an explanation of how this works:
The country’s central bank lends out money to other banks, so if the central bank raises its interest rate, the other banks will also have to raise their rates. That makes borrowing more expensive, and consumers want to borrow (and buy) less. Because less people are buying, the economy slows down, which usually encourages the central bank to lower its interest rate again.
Now, with interest rates dropping, borrowers can take out more loans and use that, in combination with their savings, buy more. This increase of spending expands the economy, eventually leading causing the demand for goods to rise higher than supply, which results in price inflation. In order to combat this inflation, the central bank raises interest rates, and the cycle starts over.
So, because the economy is cyclical, you can see why the average interest rates keep changing and are higher or lower depending on various factors.
How a VA-Backed Loan Gives You a Lower Interest Rate
A VA loan interest rate will almost always be lower than the average home loan interest rate. That’s because the VA gives lenders an added piece of security by guaranteeing they’ll be repaid a portion of each loan, even if you don’t pay them back a cent.
So, lenders feel safer, and it’s less risk to them if you default, so they’re confident and comfortable giving out lower interest rates. It also means they can provide other benefits, such as not requiring a down payment.
Why Lower Rates Should Matter to You
Let’s put it simply: with lower interest rates, you’ll be able to keep more of your money each month to spend it on other important things besides housing.
Sound enticing? To find out if you qualify for a VA loan, apply now with Low VA Rates. We’ll guide you through the steps to saving money on your mortgage so you can achieve your home-owning dreams.